Inflation, High Debt and the Public Interest – Essay by Veronique de Rugy*
A growing number of economists hold the view that the U.S. government’s growing debt should not worry us. Real interest rates are not only much lower than in the past but are also forecast to stay at current low levels for a long time. As such, the government can carry much higher debt levels without worrying about debt sustainability. In addition, some economists argue that in countries where real interest rates and the interest rate-minus-growth differential is sustained over time, the government can increase primary deficits without worrying about future costs.
While this new fiscal paradigm is interesting, it rests on assumptions that don’t apply to the fiscal issues facing the US. It also requires immense faith in the willingness of legislators to spend money in ways that produce high and consistent economic growth. Yet a review of the literature on the impact of government spending on growth reveals that, generally, such spending crowds out private-sector spending. The same is true of the relationship of debt to growth. In other words, even if interest rates stay low forever, growth could slow so much as to make the starting assumption moot. Finally, it is simply imprudent to count on low interest rates lasting forever.
However, there is a deeper fact that should worry economists more than it now does – namely, it is hard to have good policies when government swells to be so large that it has little practical choice but to depend on annual deficit financing. In particular, if inflation ever gets out of control, it’s more difficult to deal with in a high rather than low debt environment. Furthermore, most of the discussion about the risk of inflation focuses on the risk posed by the Federal …
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Inflation, High Debt and the Public Interest
*Veronique de Rugy is George Gibbs Chair in Political Economy and a senior research fellow with the Mercatus Center at George Mason University. Her essay ‘Superstitions, Conjectures and Refutations: Inflation, High Debt and the Public Interest’ she gave as a speech at the 2021 CEPROM/ECAEF Conference in Monaco.